This adjudicatory proceeding arises out of a petition filed with the
Superintendent by Lincoln Paper & Tissue, LLC, contending that it
is being overcharged by its workers’ compensation insurer, the Maine
Employers’ Mutual Insurance Company (“MEMIC”), because
loss experience of the former owner of its facilities, Lincoln Pulp and
Paper Co., Inc., was erroneously used in calculating Lincoln Paper’s
experience modification factor and high risk surcharge. As discussed more
fully below, Lincoln Paper was properly treated as Lincoln Pulp’s
successor for both purposes, and the petition is therefore denied.

The general factual background is undisputed. Lincoln Paper owns and
operates a paper mill in Lincoln, Maine. The Lincoln Mill was formerly
owned by Lincoln Pulp and Paper Co., Inc., a wholly-owned subsidiary of
Eastern Pulp & Paper Corp., which also had another subsidiary, Eastern
Fine Paper, Inc., which owned a paper mill in Brewer, Maine. The Eastern
companies went into a jointly administered Chapter 11 bankruptcy reorganization
proceeding in September of 2000, which was converted to a Chapter 7 liquidation
on February 4, 2004. On April 19, 2004, the present owners entered into
an asset purchase agreement with the Chapter 7 Trustee, under which they
purchased the Lincoln Mill but not the Brewer Mill or the corporate headquarters.
The new owners brought in new management, negotiated a new collective
bargaining agreement, and conducted a new hiring process in which existing
employees were required to reapply and a number of employees were not
rehired.

Nevertheless, National Council on Compensation Insurance, Inc. (“NCCI”),
which has been designated by the Superintendent pursuant to 24 A M.R.S.A.
§§ 2382-B and 2382 C as the advisory organization responsible
for the administration of the workers’ compensation experience rating
plan, used Lincoln Pulp’s payroll and loss experience in developing
the experience modification factor for Lincoln Paper, based on the provisions
of the uniform experience rating plan that provide for the experience
of the former owner to be considered in rating the new owner. MEMIC used
that experience modification factor in calculating the premium charged
to Lincoln Paper, and also used Lincoln Pulp’s premium and loss
history to assign Lincoln Paper to the high-risk program pursuant to 24-A
M.R.S.A. § 3714(7) and to surcharge Lincoln Paper’s premium
accordingly.

Lincoln Paper contested the experience rating and premium charges pursuant
to 24-A M.R.S.A. §§ 229 and 2320(3), and Bureau of Insurance
Rule 450, Article I, § 4(B). An adjudicatory hearing was held before
the Superintendent on September 15, 2005.1

Effects of Business Restructuring on Experience Rating

Pursuant to 24-A M.R.S.A. §§ 2382-B(1) and 2382-D, all insurers
and self-insurers must adhere to a uniform experience rating plan providing
incentives for loss prevention and sufficient premium differentials to
preserve safety. Separate and apart from this statutory mandate, experience
rating is also widely used in many lines of insurance because past loss
experience has been found to correlate with the risk of future losses.
Furthermore, pursuant to 24-A M.R.S.A. § 2382 D(1)(D), the uniform
experience rating plan must include “Provisions for reasonable and
equitable limitations on the ability of policyholders to avoid the impact
of past adverse claims experience through change of ownership, control,
management or operation.”

Therefore, Bureau of Insurance Rule 450, Article II, § 3(A) provides
that except as otherwise expressly provided, “incurred experience
shall be used in future experience rating modifications, regardless of
any change in ownership, control, management, or operations.” Similarly,
the terms of the nationwide experience rating plan promulgated by NCCI
provide that “The experience for any entity undergoing a change
in ownership will be retained or transferred to the experience ratings
of the acquiring, surviving, or new entity unless specifically excluded
by this Plan.” As Rule 450 takes precedence, its terms are incorporated
into NCCI’s Plan as a state-special exception;2 however, the analysis and results under Rule 450 and under the nationwide
plan are identical in this case. (It should be noted that the structure
of this particular transaction as an asset sale does raise the further
question of whose incurred experience should
be considered. Those issues will be discussed in the next section, after
addressing in this section the general principles governing the effects
of changes in ownership and management on experience rating.)

A change in management is not sufficient for the new ownership and management
to qualify for a clean slate for rating purposes. There must also be a
“substantial change in operations,” which is defined to “mean
a change in operation of the insured sufficient to cause a change in risk
classification assignment.”3 This limitation on the ability to avoid the impact of past adverse claims
experience is reasonable and equitable, as contemplated by 24-A M.R.S.A.
§ 2382 D(1)(D). The experience rating plan would be meaningless if
owners could avoid its impact merely by firing the manager and hiring
someone else.

In this case, there was also a genuine arms’ length sale of the
business, so there is no need to worry about transactions carried out
for the purpose of “mod laundering.” Still, it is clear that
a change of ownership, in and of itself, has no inherent effect on the
safety of the business.4 Although
Lincoln Paper purchased the mill free and clear of the prior owner’s
liabilities, “An accident history is not a corporate debt, but part
of the description of the operations and premises being insured.” CWCO, Inc. v. MEMIC, No. 93-89 at 7–8 (Me. Bur. Ins., December
19, 1995), aff’d sub nom. CWCO, Inc. v. Superintendent of Insurance, 703 A.2d 1258, 1261, 1997 ME 226, ¶ 7. “The Experience Rating
Plan formerly provided that when a business was sold to new owners, the
business would not be experience-rated until a three-year loss history
under the new ownership was available; because of the lag time in reporting
the third-year loss history, this effectively entitled the new owners
to a four-year grace period with a unity mod, and provided an incentive
to sell the business after four years if the loss history was poor....
For that reason, the interstate experience plan has subsequently been
amended to preserve a company’s loss history if it is sold unless
the change in operations is so comprehensive as to change how the business
is classified.” Id. at 6–7 & n.13

Although Lincoln Paper cites improvements in its operating processes,
it has acknowledged that the business remains a paper mill, and that none
of the changes that have been made are so fundamental as to affect the
governing classification of the business. Although new management and
new ownership can certainly affect the safety of a business, sometimes
significantly, there is no guarantee that the impact will necessarily
be for the better. Thus, when there is sufficient continuity of operations
between the predecessor and the successor, the Experience Rating Plan
properly disregards any changes in management and ownership that might
have occurred, because an adjustment to the experience modification factor
would not be justified merely upon a determination that a change has occurred
– it would also require an evaluation of the quality of the new
management or the new ownership. That is not an appropriate role for the
regulator. Such value judgments are properly made in the marketplace,
by insurers and employers willing to place their own money on the line
in support of those judgments. Insurers offer discounts through discretionary
rating plans, and some insurers specialize in offering low rates to a
selectively-underwritten clientele. Employers have the opportunity to
assume a negotiated share of the benefit of favorable claims experience
and the risk of adverse claims experience through deductibles and retrospective
rating plans. Lincoln Paper engaged the services of a leading national
insurance broker with expertise in the full range of alternatives available
in the market.

In summary, the experience of the predecessor may not be as predictive
when the business is under new ownership and management, but it is still
the most predictive information available. This is not contradicted by
the significant improvements in loss experience reported by Lincoln Paper
during its first year of operation,5 since this is a matter of hindsight. Lincoln Paper does not contend that
it was denied the opportunity to purchase a retrospectively rated policy,
under which it would have been entitled to a refund – as its actual
experience turned out – in return for the risk that had things gone
differently, it might have had to pay even more than it now must pay.
These decisions must be made at the beginning, before we know how things
actually turn out: “the nature of insurance dictates that the premium
rate ... must be based on the insurer’s reasoned evaluation of the
risk at the beginning of the policy period.” Support Solutions,
Inc. v. MEMIC, No. INS-04-104 at 3 (Me. Bur. Ins., September 2, 2004)

To the extent that they are actuarially significant,6 these improvements in Lincoln Paper’s loss history will soon find
their way into its experience modification factor. Furthermore, to the
extent that Lincoln Paper can persuade an insurer that the new information
provides meaningful evidence that the current experience modification
factor exaggerates the actual risk, a premium credit might even be available
on the current policy. However, that is a matter of the insurer’s
reasoned discretion, and not relief that it would be appropriate for the
Superintendent to order in this proceeding. See Support Solutions,
supra, at 2–3.

Significance of the Asset Sale

As discussed earlier, the foregoing analysis presumes that from the
perspective of the experience rating plan, the business of Lincoln Pulp
was sold to new owners rather than simply being extinguished and a brand
new business started on the same premises. For essentially the same reasons
already discussed in the previous section, a provision requiring the experience
of the seller to be considered when rating the purchaser would be meaningless
if it only applied when the corporate entity is sold and not when the
sale is structured in the form of an asset purchase, and there would be
no reasonable limitation, as required by 24-A M.R.S.A. § 2382 D(1)(D),
on the ability of the purchaser to avoid the impact of adverse claims
experience. Accordingly, Rule 450, Article II, § 3(B) provides as
follows:

B. Disposition of physical assets. If an entity disposes
of most, or all, of its physical assets by sale or lease and then

1. Becomes entirely inactive with no employees, or

2. Retains a few employees for the purpose of closing out its affairs
prior to dissolution as a legal entity, or

3. Retains a few clerical employees for the purpose of carrying
on operations in connection with investment of its financial assets,

its incurred experience shall be assigned to that entity, if any,
that has taken over its previous operations and employees, provided
that there was no substantial change of such operations at the time
of the takeover.

This provides, in essence, that if the old corporation disappears or
is reduced to a shell, then the purchaser of the assets is treated exactly
as if it had purchased the corporation for experience rating purposes.
Lincoln Paper, however, argues that it qualifies for a clean slate under
this provision because it has not “taken over the previous operations
and employees” of Lincoln Pulp. This argument fails for both legal
and factual reasons.

First, as a matter of law, the cited language does not mandate the absurd
result that an asset purchaser could avoid the application of the experience
rating plan by laying off its entire workforce and starting fresh with
people who have no experience working together, and conceivably who even
have no experience at all in the business. That would hardly be expected
to improve safety. The cited language merely establishes that when the
operations and employees are transferred, it is crystal clear which entity
is the predecessor and which is the successor. In situations not explicitly
addressed by the plain language of the rule, as when an asset sale is
accompanied by a mass layoff, a case-by-case determination may be necessary
in order to effectuate the intent of the rule.

Second, I find as a factual matter that Lincoln Paper did take over
the previous operations and employees of Lincoln Pulp. It is operating
the same mill in largely the same manner, it negotiated a new collective
bargaining agreement with the same union that previously represented Lincoln
Pulp’s workers, and Lincoln Paper re-employed more than 60% of Lincoln
Pulp’s union workforce, despite a substantial downsizing, and more
than 70% of Lincoln Paper’s salaried employees. The continuity is
even clearer if we look at the “after picture” – more
than 80% of Lincoln Paper’s employees had worked for Lincoln Pulp,
and this statistic disregards employees who were only hired by Lincoln
Pulp in the months immediately preceding the asset sale. Since this exception,
if it had been one, would have been the only exception that might apply
here to the general rule that the experience of the seller transfers to
the purchaser, as set forth in Rule 450, Article II, § 3(A), Lincoln
Paper’s challenge to its experience rating is denied.

Assignment to the High-Risk Program

Finally, somewhat different considerations are raised by MEMIC’s
assignment of Lincoln Paper to the high-risk program established pursuant
to 24-A M.R.S.A. § 3714(7). This is an experience rating program
of sorts, in the sense that it uses prior adverse loss history as a predictor
of future losses and as a safety incentive. However, it is not part of
the uniform experience rating plan, and is governed by different statutory
provisions. The statutory criteria are:

7. High-risk program. The company [MEMIC] shall maintain
a high-risk program subject to the following provisions.

A. An employer must be placed in the high-risk program if the employer
has at least 2 lost-time claims, each greater than $10,000 of incurred
loss, and a loss ratio greater than 1.0 during the previous 3-year
experience rating period. Notwithstanding paragraph C, an employer
may also be placed in the high-risk program during the term of a policy
for noncompliance with reasonable safety standards.

B. The [MEMIC] board, with the approval of the superintendent, may
modify the eligibility standards for the high-risk program if those
standards limit those in the program to employers who have measurably
adverse loss experience, have a relatively high claim frequency record
or have demonstrated an attitude or practice of noncompliance with
reasonable safety requirements or claims management standards.

The question in this case is whether Lincoln Paper and Lincoln Pulp
were properly treated as the same “employer” for purposes
of this statute, because MEMIC assigned Lincoln Paper to the high-risk
program based on Lincoln Pulp’s loss ratio and claims experience.
Although they are properly considered the same employer for purposes of
the experience rating plan, this is not necessarily dispositive, because
the Law Court held in National Industrial Constructors, Inc. v. Superintendent
of Insurance, 655 A.2d 342 (Me. 1995) that legal entities that are
combinable for purposes of the experience rating plan are not necessarily
combinable for purposes of other statutory rating provisions.

National Industrial Constructors arose under former 24-A M.R.S.A.
§ 2366, subsequently recodified at 24-A M.R.S.A. § 2386, which
established the residual market that served as the carrier of last resort
before MEMIC was formed. That market was divided into a “safety
pool,” for employers “with good safety records,” 24-A
M.R.S.A. § 2386(4)(A), that were unable to obtain voluntary coverage
but had acceptable safety records, and an “accident prevention account,”
for high-risk employers. Pursuant to 24-A M.R.S.A. § 2386(3)(B)(1),
an employer insured in the residual market was assigned to the accident
prevention account if “The employer has at least 2 lost-time claims
over $10,000 and a loss ratio greater than 1.0 over the last 3 years for
which data is available” – essentially the identical standard
as now provided in the first sentence of 24-A M.R.S.A. § 3714(7)(A), supra.7

National Industrial Constructors and Rust Engineering were sister corporations
under common ownership, but had historically operated under separate management
with separate equipment and personnel, and obtained separate policies.
At the time, NCCI administered both the experience rating plan and the
residual market mechanism. When it adopted the “combination of entities”
rule, it applied that rule to both the experience rating plan and the
loss ratio calculation used to decide which account a residual market
employer would be assigned to. National Industrial Constructors would
have qualified for assignment to the safety pool and for a significantly
lower experience rating if its experience had not been combined with Rust
Engineering’s. The Superintendent found NCCI’s combination-of-entities
rules reasonable and supported by the statute, for reasons similar to
those discussed above, and rejected National Industrial Constructors’
challenge.

National Industrial Constructors appealed that portion of the Superintendent’s
decision that upheld its assignment to the accident prevention account,
and the Law Court sustained the appeal on the ground that the residual
market statute referred specifically to the experience of “the employer.”
Rule 450, by contrast, makes express provision for combination of affiliated
entities and implements a statute which, unlike the residual market statute,
is not stated in employer-specific terms, but to the contrary, expressly
provides for “limitations on the ability of policyholders to avoid
the impact of past adverse claims experience.” The Law Court held
that the residual market statute was “free-standing and autonomous,”
and did not incorporate the terms of the experience rating plan by reference.
Because the term “employer” is not ambiguous, it could not
be used to mean a group of affiliated employers, and “loss ratio
for purposes of safety pool eligibility is calculated from the incurred
losses and earned premium of the individual employer who applies for workers’
compensation insurance coverage.” National Industrial Constructors, 655 A.2d at 345.

Because the MEMIC high-risk statute is derived from the former accident
prevention account standard and is based in the identical manner on “the
employer’s” loss ratio and claims history, National Industrial
Constructors remains controlling. See CWCO, supra, at 9.
The question presented here is whether the Legislature, in making its
presumed choice to base high-risk surcharges on a different legal standard
from experience rating, intended to establish a bright-line “separate
legal entity” standard, or whether there are some situations in
which MEMIC is permitted to consider the combined experience of related
or successor entities. I conclude that neither the Legislature nor the
Law Court intended the experience of a predecessor employer to be disregarded
in determining whether the successor should be classified as high-risk.

Combination of entities for surcharge purposes raises policy concerns
that combination of entities for experience rating purposes does not raise.
When two entities are combined for experience rating purposes, it increases
one’s experience modification factor but decreases the other’s,
and if the entities are under common ownership, the same parent is ultimately
paying the bills. Thus, it is not as important to distinguish between
situations where there is high risk of the parent shifting exposure between
subsidiaries and situations where there is little to no risk. High-risk
surcharges, on the other hand, do not average out. If one entity would
be assigned to the accident prevention account or MEMIC high-risk program
on a stand-alone basis, while the other would not, then combining their
experience and assessing the surcharge on an “all or nothing”
basis would result in either a significant net loss or net gain from the
parent, depending on whether the combined loss ratio averaged out to more
than 1.0 or less than 1.0. Thus, persuasive arguments can be made that
it is unfair to combine sister corporations with a history of independent
operations for surcharge purposes.8

The predecessor/successor relationship, on the other hand, raises entirely
different issues. National Industrial Constructors dealt with
two entities which continued to operate as going concerns and to develop
their own loss experience independently. Furthermore, they were under
separate management and not in a position for their common parent to simply
redesignate a Rust Engineering project as a National Industrial Constructors
project in order to take advantage of the favorable insurance rate. Here,
on the other hand, the successor entity has taken on the facilities and
most of the workforce of its predecessor, so the predecessor’s experience
remains directly relevant to the risk profile of the successor. See
CWCO, supra, at 9. It would be irrational to treat predecessors and
successors as separate “employers” for purposes of the high-risk
program whenever they are separate legal entities, because to do so would
render the high-risk program a nullity – any employer could simply
sell its assets to a new corporation whenever it would otherwise be assigned
to the high-risk program.

Again, however, this does not mean Lincoln Paper is without recourse
in the marketplace if it can persuade its insurer that its operations
have sufficiently improved that it should no longer be treated as a “high-risk”
employer on the basis of Lincoln Pulp’s record. The statutory high-risk
surcharge does not apply at all unless the insurer is MEMIC, and MEMIC
has represented that it may waive the high-risk surcharge in extraordinary
circumstances. MEMIC should evaluate whether this is appropriate for the
prior policy year, and/or for the current policy year if applicable, but
as before, this is a matter of MEMIC’s reasoned discretion and not
a decision it would be appropriate for me to make on this record.

Order and Notice of Appeal Rights

It is therefore ORDERED that the Petition is hereby DENIED.
NCCI may combine the experience of Lincoln Paper & Tissue, LLC with
the experience of Lincoln Pulp and Paper Co., Inc., and MEMIC may charge
and collect premium based upon that combined experience.

This Decision and Order is a final agency action of the Superintendent
of Insurance within the meaning of the Maine Administrative Procedure
Act. It is appealable to the Superior Court in the manner provided in
24-A M.R.S.A. § 236 (2000) and M.R. Civ. P. 80C. Any party to the
hearing may initiate an appeal within thirty days after receiving this
notice. Any aggrieved non-party whose interests are substantially and
directly affected by this Decision and Order may initiate an appeal on
or before November 23, 2005. There is no automatic stay pending appeal;
application for stay may be made in the manner provided in 5 M.R.S.A.
§ 11004.

1 Pursuant to 24-A M.R.S.A. §
210, the Superintendent has appointed Bureau of Insurance Attorney Robert
Alan Wake to serve as hearing officer, with full decisionmaking authority.

2 The nationwide plan provides for
fewer exceptions to the general principle that experience of the predecessor
employer is attributed to the successor employer for rating purposes.

4 Although it is not directly on
point, it is instructive that Rule 450, Article II, § 3(D) expressly
provides that the debtor’s experience continues to be used for rating
purposes after a receiver or trustee has taken control of the business.

5 Furthermore, it is to be expected
that a period of poorer-than-average loss experience will often be followed
by improvement, and not surprising to observe significant improvement.
There are several reasons for this, including the “regression to
the mean” effect and the likelihood that even without a change in
ownership or management, adverse loss experience will trigger a heightened
attention to safety, as contemplated by 24-A M.R.S.A. § 2382 D(1)(B)
& (C). The experience rating formula includes provisions designed
to address this issue.

6 The Experience Rating Plan does
not look merely at the aggregate volume of losses, but rather makes a
number of adjustments to avoid, for example, giving disproportionate weight
to a single large claim.

7 Likewise, MEMIC’s approved
surcharge methodology is derived from and substantially identical to the
former statutory surcharge formula set forth in 24-A M.R.S.A. § 2386(5)(C).

8 Arguments could also be made in
favor of combination even in those circumstances, but the arguments on
both sides are public policy arguments for the Legislature to weigh, since
the meaning of the existing statute is settled as applied to that fact
pattern.